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Natural catastrophe and disaster fraud

Calamity criminals

November/December 2006

ByRichard G. Brody, Ph.D., CFE, CPA; and Valerie J. Kimball

Disasters bring out the best and, of course, the worst in people. Catastrophic events are a beacon for opportunistic predators. Here are the latest schemes, conditions for fraud, and prevention and detection methods.

Katrina. Asian tsunami. Pakistani earthquake. Spain and England terrorist attacks. And 9/11. At the beginning of this new century, we've seen an increase in national and manmade disasters. These tragedies have brought neighbors and nations together. But catastrophic events are also a beacon for opportunistic predators and a magnet for various forms of deception for dishonest gain.

Types of disaster fraud

Disaster fraud, which we'll define as a deliberate act to defraud individuals or the government after a catastrophe, can be divided into five primary categories: charitable solicitations, contractor and vendor fraud, price gouging, property insurance fraud, and forgery.

Charitable solicitations fraud involves people or Internet sites posing as legitimate organizations that claim to be raising funds for disaster victims (such as in the opening case).

Web sites reach a global audience and have the ability to trick the unwary into revealing key identity data. Generous people, who often search the Internet for well-known charities in order to donate funds after disasters, often are deceived by fake Web sites. These phony sites collect donors' credit card numbers and other personal information.

Price gouging, as the name implies, occurs when businesses or individuals increase the price of goods that are in demand or in limited supply in the disaster zone. One enterprising man made a huge profit selling 35 generators on a street corner after Hurricane Wilma struck Florida in October of 2005. A lawsuit alleges that David Medina bought two sizes of generators at a Costco store in North Carolina for $529.99 and $279.99. Medina then resold them in Miami for $900 and $600, respectively, before investigators intervened.

Contractor and vendor fraud occurs when individuals pose as contractors or repairmen but have no intention of actually repairing damage or completing the job. A typical example involves an ex-pastor from Port Charlotte, Fla., Jackie Ruff, who was accused of collecting deposits but failed to complete repairs on 43 homes damaged by Hurricane Charley in 2004. He was arrested in Montana.

Disaster-related property insurance fraud against insurance companies include inflating losses, faking repairs, claiming lost services, and in some cases, deliberately causing damage to property to collect on insurance policies in the wake of a disaster. "Hard insurance fraud" occurs when someone deliberately fabricates a claim. "Soft insurance fraud" (also known as opportunistic fraud) occurs when a normally honest person pads a legitimate claim.

Forgery examples include reimbursement checks stolen from mailboxes, submission of false building permits and receipts for claims, forged insurance and federal emergency assistance checks, and fraudulent damage reports. A South Florida man was indicted on six counts of mail fraud, one count of wire fraud, and one count of filing a false claim. Thomas H. Elliott collected $23,244 in Federal Emergency Management Agency aid after Hurricane Frances in 2004 by claiming that the boat on which he lived was damaged. However, his primary residence was actually an apartment. In addition, 26 other South Florida residents had been charged with filing false Hurricane Frances claims.

Scam success factors

Factors for disaster scam success include, but aren't limited to, the speed (and technology) available, the location of the catastrophe, the perpetrator's confidence level, and the public's general attitude.

Speed

Information is available 24/7 by clicking a computer mouse button or surfing weather channels. For example, just hours after the 9/11 terrorist attacks, numerous charity Web sites appeared and reported that they would forward contributions to victims and their families but actually kept the donations. ScamBusters.org, an Internet clearinghouse for online fraud information, said it had received reports of numerous e-mails that were requesting emergency relief donations under the International Red Cross name but were really from spammers stealing credit card information.

The Red Cross works with the FBI to try to identify fraudulent sites purporting to be the organization; several of them were quite sophisticated. As of Sept. 10, 2005, the FBI had reviewed approximately 800 sites and reported that 60 percent of those had an international connection to Eastern Europe, Asia, and elsewhere and were presumed to be phony.5

Location

A catastrophe's location often provides unique circumstances that support a specific fraud. For instance, the 2004 tsunami that struck Southeast Asia planted tourists' lost passports and credit cards in criminal hands all over that part of the world, according to police and private investigators in Bangkok. Security companies have tried to identify bodies and investigate cases of missing persons. Still, according to international forensic experts, many foreign victims might never be identified because of mix-ups and bureaucratic disputes. European forensic experts said that early Thai identification efforts were disorganized and used techniques that compromised the reliability of some DNA tests.6 Criminals, however, were well organized. Without actual identification resulting in death declarations, identity theft is still a threat.

Confidence factor

People often bluff their way into restricted disaster sites. Some do this for the excitement or temporary power but others have more sinister reasons. "Father" John Irish stepped in to console victims' families at the 1987 Northwest Airlines jet crash in Detroit as he had done at other disaster sites. (It was reported the clergy weren't checked for identification.) But this time someone questioned him about church sacraments. Subsequently, Irish, who was impersonating a priest, was accused of fraudulently obtaining money and lodging. He fled to Canada and wasn't extradited because authorities couldn't determine that he had broken any laws.7 Irish clearly had the unique ability to fool people into buying into his scam.

Attitude

The scope and success of disaster fraud are directly related to the public's attitude toward insurance companies, government agencies, and aid organizations. After all, fraudulent insurance claims undoubtedly have occurred since the industry began in the 17th century. Nevertheless, fair claim practice regulations in many states make it difficult to investigate suspicious cases because claims have to be paid within a set time period. Moreover, there's a fine line between investigating suspicions and harassing legitimate claimants. Efforts to uncover fraud could also be seen as anti-consumer.

Still, in the fight against fraud, public attitudes have hindered insurers. Studies by the Insurance Research Council reveal that a significant number of Americans believe it's only fair to inflate insurance claims to make up for all the premiums paid in years of no claims, or pad claims to make up for deductibles.8 Industry experts believe that approximately 10 percent of all claims filed every year contain some fraud. Meanwhile, government investigators are increasingly disillusioned because much of the public believes that stealing from the government is a forgivable, justified blow against bureaucracy.9

Costs and penalties

Everyone pays for scams. Fraudulent claims reduce the amount of money available to legitimate victims. Also, no catastrophe is off limits to fraud. Americans reacted quickly to the 9/11 terrorist attacks by providing aid with as little bureaucratic red tape as possible. But the easy giving process might have contributed to an estimated $2.5 million in fraud after 9/11.10 Some estimates raise that figure to as high as $4 million in 9/11-related scams against charities and government agencies.11 Every American pays the price because taxpayers fund all government aid. And the cost of insurance fraud, to the tune of $29 billion in 2003 for property and casualty insurance, is ultimately passed to consumers through higher premiums.12 In 2002, the National White Collar Crime Center estimated that the average household might have paid an extra $200 to $300 in insurance premiums due to fraud. Consequently, even those not directly affected by a disaster can become victims of disaster fraud.13

Meanwhile, penalties for filing false claims have hardly changed in the last decade. In 1995, the maximum sentence for filing fraudulent statements with the federal government was five years in prison and a $250,000 fine for each charge along with repayment of the money received.14 Prosecution of these felonies falls under Title 18 of the United States Code. Today, the fine still stands at $250,000. Imprisonment, however, may now range from five to 10 years. For insurance fraud, punishment varies by state. Some states classify insurance fraud as a misdemeanor and others a felony. The dollar amount involved also might influence the classification depending on the state's laws. In states where insurance fraud isn't specifically identified in the penal code, it falls under general fraud provisions such as fraud by deception. A felony count from the crime of impersonating someone associated with a charitable organization to solicit money still carries only a five-year prison sentence.

Prevention and detection

Prevention costs are much lower than detection costs in dollars, resources, employee morale, and reputation of the involved entity. Some prevention is possible. One method is carefully screening aid recipients. Virginia has used an automated system to create a database of participants in the food-stamp program and track applications statewide.15 Similarly, the state has consolidated insurance claims into the world's largest comprehensive database of claims information. Predictive Knowledge, a program developed by the National Insurance Crime Bureau (NICB), collects and analyzes information throughout the United States to disseminate to insurers and law enforcement agencies to prevent, detect, and investigate insurance fraud. The NICB, in partnership with iMapData Inc., introduced CATfraud to identify fraudulent catastrophe-related insurance claims.16 The Red Cross verifies addresses through court and driving records, bills, and other items to uncover fraudulent claims.17 Confirming that an applicant qualifies for disaster aid is another tool to prevent and detect fraud.

Identification of aid workers and vigilant hiring practices minimize disaster fraud. In Pennsylvania, state police quickly establish perimeters around local disaster sites and implement strict guidelines for identification to keep imposters out.18 And a rigorous employment process is imperative. Tywanishia Preston is an example of a weakness in FEMA's hiring system. Preston was the first FEMA inspector arrested on charges of accepting kickbacks for approving false hurricane damage claims in the continuing federal investigation in Miami-Dade.19

Public and employee education on disaster fraud and ways to report suspects is a deterrent. A joint initiative of the Property Casualty Association of America, the FBI, National Charities Information Bureau (NCIB), and the International Association of Special Investigating Units has established a national fraud academy under the leadership of the NICB. The academy offers online classes to educate and train insurance fraud investigators.

Accountability is the most effective motivation to prevent and detect disaster fraud. The United Nations, for example, has engaged PricewaterhouseCoopers to upgrade the UN's online system for tracking donations and monitoring for fraud. The World Bank lists contributions on a Web site and Doctors Without Borders wasn't accepting any further donations for a time until it could document prior expenditures. Indeed, the World Bank and the United Nations Development Program now administer most aid because it's easier to hold these organizations accountable.20

The insurance industry, of course, is accountable to its shareholders and policyholders. Insurance firms have established special investigation units (SIUs) to identify and investigate suspicious claims. According to the Coalition Against Insurance Fraud, 40 percent of property/casualty insurers had SIUs in 1999, and that figure had more than doubled by 2001. Also, insurers are required by law to have a specific program to not only identify fraud but to outline corrective actions to reduce it.21

Professional volunteers are highly valued in the wake of a disaster. The American Institute of Certified Public Accountants and the Internal Revenue Service are working together to provide pro-bono tax assistance to hurricane victims who come to disaster-recovery centers. And Certified Fraud Examiners have certainly helped in providing volunteer services in disaster areas. In fact, CFEs might be the most qualified individuals to provide assistance when catastrophes occur.

Taking responsibility

Obviously, disaster aid has become a calamity because of fraud. And as rising costs increase disaster aid dollars, the amount of fraud will no doubt have a corresponding growth. Consequently, the penalties should keep up with inflation at the bare minimum. Increases in the fines have fundamentally remained unchanged in a decade; stronger punishments could deter criminals. Recognizing this need, the U.S. House of Representatives passed a bill on June 20 that would impose fines of up to $1 million and 30 years in prison for fraudulent disaster claims. The bill is now before the Senate.22

Ultimately, those who determine allocations for prevention and detection - legislators and private aid groups - will decrease the incidence and frequency of disaster fraud. It's imperative that we develop a nationwide system of cross-checking disaster victim applications, improve the identification process of potential aid volunteers, and conduct an in-depth review of the hiring practices used to screen prospective aid employees. It's vital that we publish and broadcast the results of disaster fraud investigations and strengthen public and employee fraud education. The firm demand for accountability in the disbursement of disaster relief funds by government organizations, the insurance industry, and charitable organizations can no longer be delayed. Taxpayers pay the price for disaster fraud and, consequently, must also take responsibility to minimize it. Truly, the voter will decide the success, or failure, of mitigating disaster fraud by electing representatives to enact laws and allocate resources to uncover and punish predators who prey on the misfortune of others.

Katrina: Study in rampant fraud

For disasters, 2005 holds the record with $70 billion in insured loses. Hurricane Katrina is expected to top $60 billion alone.23 By simple calculation, if one percent of that amount were lost to scams, the price of disaster fraud for that one hurricane would exceed $600 million.

Frauds began to appear online within hours of Katrina's landfall. A lawsuit filed in Florida Sept. 1, 2005 accused Robert E. Moneyhan of registering several Katrina-related domain names as early as Aug. 28 before the hurricane had even hit the shoreline. According to Florida's Attorney General Charles J. Crist Jr., Moneyhan's sites asked visitors to donate to Hurricane Katrina's victims by clicking a "donate" button that linked visitors to a PayPal account set up for their convenience. The lawsuit seeks $10,000 in civil penalties and restitution for any consumers who might have donated to the Web sites.24

By Sept. 1, the Web site ScamBusters.org had logged dozens of Katrina-related swindles and Internet spam schemes. Frauds ranged from opportunistic marketing ploys to messages purporting to be from victims or families of victims. The FBI estimates that by Sept. 7, there were approximately 2,300 Katrina-related Internet sites. The number of Web sites had more than doubled since Sept. 5.25

Wisconsin officials reported that e-mails soliciting donations for Hurricane Katrina on behalf of the American Red Cross actually contained links that routed users to a fake version of the Red Cross Web site.26

Of course, the insurance industry has also been a target for criminal opportunists in the wake of Katrina. Desperate to cash in on policies, some homeowners were resorting to extreme measures to qualify under their insurance plans. Louisiana investigators and insurance companies looked into fires that may have been set by owners who didn't have flood insurance.

The U.S. Congress originally set aside $62 billion for reconstruction, but the amount was eventually increased to more than $110 billion.27 Normal federal contracting rules had been suspended in the rush to help the displaced and re-open New Orleans. The sheer speed in which contracts were handed out was unprecedented. Hurricane Katrina relief money disappeared at a rate of more than $500 million a day.28 More than 80 percent of the $1.5 billion in contracts was awarded without bidding. The inspector general for the Department of Homeland Security, Richard L. Skinner, said bills arrived for deals that were sealed with a handshake and no documentation to back them up. Although he declined to provide details, Skinner said, "They were under a lot of pressure and took a lot of shortcuts that may have resulted in a lot of waste."

The Hurricane Katrina Fraud Task Force focuses on specific areas of fraud and adapts to new schemes. The task force includes members from the FBI, Federal Trade Commission, the Postal Inspector's Office, and the Executive Office of the U.S. Attorneys. However, this one disaster underscores the critical need for prevention and detection.

Richard G. Brody, Ph.D., CFE, CPA, is associate professor in the Anderson Schools of Management at the University of New Mexico in Albuquerque.

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